What Is a Fixed Income Forward?

A fixed income forward is a derivatives contract to buy or sell fixed-income securities at some date in the future, but at a price accepted tꦐoday.

Fixed income refers to a type of investment in which real return rates or periodic income is received at regular intervals and reasonably predictable levels. Investors may use 澳洲幸运5官方开奖结果体彩网:forward contracts on fixed-income securities to lock in a bond price tod⛎ay while taking ownership or selling the security itsel🍃f in the future.

How a Fixed Income Forward Works

The risk in holding fixed income forward contracts is that market interest rates for the underlying bonds can increase or decrease. These changes affect the bond’s yield and thus its price. 澳洲幸运5官方开奖结果体彩网:Forward rates then become the focus of investor attention, especially if the market for the fixed-income security is considered volatile. A forward rate is the interest rate that’s applicable to a financial transaction that w🉐ill take place in the 🌳future. 

Special Considerations

Pricing a Fixed Income Forward 

To calculate the price of a fixed income forward contract you subtract the present value (PV) of coupon payments, over the life of the contract, from the bond price. This value is compounded by the risk-free rate over the life of the option. The 澳洲幸运5官方开奖结果体彩网:risk-free rate represents the interest an inve💖stor would expect from an entirely risk-free investmeไnt over a specified period.

The value of the contract is the bo🌃nd price, less the present value of coupons, less the present value of the price which will be paid at expiration (bond price - PV coupons - PV price paid at expiration).

Profiting from a Fixed Income Forward

Profiting from a fixed income forward depends on which side of the contract the investor is on. A buyer enters the contract hoping the market price of the bond will be higher in the future since the difference between the contracted price and the 澳洲幸运5官方开奖结果体彩网:market price represents profit. The seller expects that the bond price will🍌 fall.

While the number of coupon payments for the life of the bond may exceed the life of the co𓆏ntract, consideration is only on the payments due during the contract period. This payment limitation is caused by some bonds having maturities that are much longer than the duration of the contract. Contract participants are hedging for price movements over a shorter period.

Fixed income forward contracts are favorite instruments for investors who are looking to hedge interest rate or other risks in the bond market. Other traders are attracted to the fixed income forward market to profit from anomalies between the forward and 澳洲幸运5官方开奖结果体彩网:spot markets for bonds and other debt instruments.

Fixed Income Forward vs. Fixed Income Future

Fixed income derivatives may be traded on 澳洲幸运5官方开奖结果体彩网:exchanges, where the underlying bond and terms of the contract are standardized. Unlike a forward contract that trades 澳洲幸运5官方开奖结果体彩网:over-the-counter (OTC), a standardized fixed income derivative is an exchange-traded 澳洲幸运5官方开奖结果体彩网:futures contract. These exchanges publish these rates along with the types of bonds accepted as payment. Otherwise,🍌 forwards and futures operate in similar fashion.